Prime Healthcare Services, Inc. and Subsidiaries Years ... · Prime Healthcare Services, Inc. and...

Ernst & Young LLP

C O N S O L I D A T E D F I N A N C I A L S T A T E M E N T S

Prime Healthcare Services, Inc. and SubsidiariesYears Ended December 31, 2018, 2017, and 2016With Report of Independent Auditors

1808-2856776

Prime Healthcare Services, Inc. and Subsidiaries

Consolidated Financial Statements

Years Ended December 31, 2018, 2017, and 2016

Contents

Report of Independent Auditors .................................................................................................. 1

Consolidated Financial Statements

Consolidated Balance Sheets ....................................................................................................... 3Consolidated Statements of Operations ....................................................................................... 5Consolidated Statements of Comprehensive Income (Loss) ........................................................ 6Consolidated Statements of Stockholder’s Equity ........................................................................ 7Consolidated Statements of Cash Flows ...................................................................................... 8Notes to Consolidated Financial Statements .............................................................................. 10

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Report of Independent Auditors

The Board of DirectorsPrime Healthcare Services, Inc. and Subsidiaries

We have audited the accompanying consolidated financial statements of Prime HealthcareServices, Inc. and Subsidiaries, which comprise the consolidated balance sheets as ofDecember 31, 2018 and 2017, and the related consolidated statements of operations,comprehensive income (loss), stockholder’s equity, and cash flows for each of the three years inthe period ended December 31, 2018, and the related notes to the consolidated financial statements.

Management’s Responsibility for the Financial Statements

Management is responsible for the preparation and fair presentation of these financial statementsin accordance with U.S. generally accepted accounting principles; this includes the design,implementation, and maintenance of internal control relevant to the preparation and fairpresentation of financial statements that are free of material misstatement, whether due to fraud orerror.

Auditor’s Responsibility

Our responsibility is to express an opinion on these financial statements based on our audits. Weconducted our audits in accordance with auditing standards generally accepted in theUnited States. Those standards require that we plan and perform the audit to obtain reasonableassurance about whether the financial statements are free of material misstatement.

An audit involves performing procedures to obtain audit evidence about the amounts anddisclosures in the financial statements. The procedures selected depend on the auditor’s judgment,including the assessment of the risks of material misstatement of the financial statements, whetherdue to fraud or error. In making those risk assessments, the auditor considers internal controlrelevant to the entity’s preparation and fair presentation of the financial statements in order todesign audit procedures that are appropriate in the circumstances, but not for the purpose ofexpressing an opinion on the effectiveness of the entity’s internal control. Accordingly, we expressno such opinion. An audit also includes evaluating the appropriateness of accounting policies usedand the reasonableness of significant accounting estimates made by management, as well asevaluating the overall presentation of the financial statements.

We believe that the audit evidence we have obtained is sufficient and appropriate to provide a basisfor our audit opinion.

A member firm of Ernst & Young Global Limited

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Opinion

In our opinion, the financial statements referred to above present fairly, in all material respects,the consolidated financial position of Prime Healthcare Services, Inc. and Subsidiaries atDecember 31, 2018 and 2017, and the consolidated results of their operations and their cash flowsfor each of the three years in the period ended December 31, 2018, in accordance with U.S.generally accepted accounting principles.

ey April 30, 2019

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Consolidated Balance Sheets(Dollars in Thousands)

December 312018 2017

AssetsCurrent assets:

Cash and cash equivalents* $ 194,526 $ 171,942Restricted cash* 869 –Patient accounts receivable, less allowances of $248,839 and

$276,762 at December 31, 2018 and 2017, respectively* 451,769 486,031Estimated third-party payor settlements 55,778 47,365Provider fee receivable 314,310 312,330Supplies inventory* 62,290 62,897Prepaid expenses and other current assets* 77,177 78,015Short-term investments 1,138 5,097Related-party receivables* 30,705 6,075

Total current assets 1,188,562 1,169,752

Property and equipment, net of accumulated depreciationand amortization* 1,254,356 1,305,650

Insurance claims and reserves recoverable* 148,577 122,129Goodwill 40,809 40,430Other assets* 27,985 29,565

Total assets $ 2,660,289 $ 2,667,526

*Account balances contain assets of the consolidated variable interest entities that can only be usedto settle obligations of the variable interest entities (see Note 1).

See accompanying notes to consolidated financial statements.

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Consolidated Balance Sheets (continued)(Dollars in Thousands, Except Share Data)


Liabilities and stockholder’s equityCurrent liabilities:

Accounts payable* $ 149,867 $ 176,769Accrued expenses* 252,965 242,350Medical claims payable 13,878 6,533Current portion of related-party payables* 58,786 40,249Estimated third-party payor settlements 29,011 57,707Provider fee payable 152,779 169,900Current portion of capital leases* 66,208 67,062Current portion of long-term debt* 63,546 20,612

Total current liabilities 787,040 781,182

Long-term liabilities:Revolving credit facility 299,776 336,139Sale leaseback liability 651,933 651,229Insurance claims liabilities and reserves* 192,326 165,967Related-party payables, net of current portion* – 30,000Pension liabilities 25,722 25,832Capital leases, net of current portion* 93,186 136,089Long-term debt, net of current portion* 477,342 494,216Other long-term liabilities 43,457 33,830

Total long-term liabilities 1,783,742 1,873,302

Stockholder’s equity:Common stock, $0.01 par value, 3,000 shares authorized,

30 shares issued and outstanding – –Additional paid-in capital 3 3Accumulated other comprehensive loss (8,739) (7,536)Accumulated deficit (264,284) (350,700)Noncontrolling interest 362,527 371,275

Total stockholder’s equity 89,507 13,042Total liabilities and stockholder’s equity $ 2,660,289 $ 2,667,526

*Account balances contain liabilities of the consolidated variable interest entities for whichcreditors do not have recourse to the general credit of the Company (see Note 1).


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Consolidated Statements of Operations(Dollars in Thousands)

Year Ended December 312018 2017 2016

RevenuePatient service revenue (net of contractual

allowances and discounts) $ 4,089,204 $ 4,232,340 $ 4,028,093Provision for doubtful accounts (693,656) (866,378) (698,780)Net patient service revenue, less provision for

doubtful accounts 3,395,548 3,365,962 3,329,313

Premium revenue 18,939 20,593 19,909Other operating revenue 212,758 222,879 137,971

3,627,245 3,609,434 3,487,193

Operating expensesCompensation and employee benefits 1,744,245 1,741,264 1,823,128General and administrative 458,938 503,325 487,333Supplies 437,979 486,217 535,941Professional services 412,105 410,974 462,677Depreciation and amortization 172,388 167,864 156,042Rent and lease 75,844 70,109 69,274Medical claims 65,919 53,318 5,105Intangible and goodwill impairments 50 44,879 32,961

3,367,468 3,477,950 3,572,461

Income (loss) from operations 259,777 131,484 (85,268)Interest expense (147,557) (149,270) (171,740)Other nonoperating income (loss) 4,076 1,535 (63)Income (loss) before income taxes 116,296 (16,251) (257,071)Income tax (1,513) (1,985) (2,645)Net income (loss) 114,783 (18,236) (259,716)

Net income attributable to noncontrolling interest (24,939) (15,866) (93,539)Net income (loss) attributable to controlling

interest $ 89,844 $ (34,102) $ (353,255)


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Consolidated Statements of Comprehensive Income (Loss)(Dollars in Thousands)


Net income (loss) $ 114,783 $ (18,236) $ (259,716)Unrealized gain in foreign translations 116 – –Unrealized loss in defined benefit pension plan (1,319) (716) (918)

Comprehensive income (loss) 113,580 (18,952) (260,634)Less comprehensive income attributable to

noncontrolling interest (24,939) (15,866) (93,539)Comprehensive income (loss) attributable to

controlling interest $ 88,641 $ (34,818) $ (354,173)


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Consolidated Statements of Stockholder’s Equity(Dollars in Thousands, Except Share Data)

SharesCommon

Stock

AdditionalPaid-InCapital

AccumulatedOther

ComprehensiveLoss

Retained Earnings(Accumulated

Deficit)Noncontrolling

Interest Total

Balance, December 31, 2015 30 $ – $ 3 $ (5,902) $ 107,624 $ 296,563 $ 398,288Distribution of Landmark Medical

Center, Rehabilitation Hospital ofRhode Island, and LandmarkPhysician Office Services – – – – (66,652) – (66,652)

Unrealized loss in defined benefitpension plan – – – (918) – – (918)

Cash distributions – – – – (1,642) (26,329) (27,971)Controlling interest in net loss – – – – (353,255) – (353,255)Noncontrolling interest in net income – – – – – 93,539 93,539

Balance, December 31, 2016 30 – 3 (6,820) (313,925) 363,773 43,031Unrealized loss in defined benefit

pension plan – – – (716) – – (716)Cash distributions – – – – (2,861) (8,988) (11,849)Other – – – – 188 624 812Controlling interest in net loss – – – – (34,102) – (34,102)Noncontrolling interest in net income – – – – – 15,866 15,866

Balance, December 31, 2017 30 – 3 (7,536) (350,700) 371,275 13,042Unrealized gain in foreign translations – – – 116 – – 116Unrealized loss in defined benefit

pension plan – – – (1,319) – – (1,319)Cash distributions – – – – (1,270) (33,990) (35,260)Other – – – – (2,158) 303 (1,855)Controlling interest in net income – – – – 89,844 – 89,844Noncontrolling interest in net income – – – – – 24,939 24,939

Balance, December 31, 2018 30 $ – $ 3 $ (8,739) $ (264,284) $ 362,527 $ 89,507


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Consolidated Statements of Cash Flows(Dollars in Thousands)


Operating activitiesNet income (loss) $ 114,783 $ (18,236) $ (259,716)Adjustments to reconcile net income (loss) to net cash provided by

operating activities:Depreciation and amortization 172,388 167,864 156,042(Gain) loss on sale of assets (4,076) (1,535) 63Provision for doubtful accounts 693,656 866,378 698,780Other intangible and goodwill impairment 50 44,879 32,961Other – (2,942) –Loss on extinguishment and amortization of deferred

debt issuance costs 3,716 2,584 11,924Net realized and unrealized loss (gain) on investments 223 (555) (165)Changes in assets and liabilities, net of hospital

acquisitions/distributions:Patient accounts receivable (659,394) (823,095) (530,010)Supplies inventory 607 5,505 (592)Prepaid expenses and other current assets 838 26,205 (11,463)Other assets (4,696) 3,290 5,332Related-party receivables/payables (26,093) (8,157) 16,930Accounts payable (30,711) (85,233) (37,268)Accrued expenses, insurance claims liabilities and reserves,

and other long-term liabilities 3,647 52,282 44,941Medical claims payable 7,345 3,243 992Estimated third-party payor settlements and

provider fee (56,210) (62,706) 9,494Net cash provided by operating activities 216,073 169,771 138,245

Investing activitiesPurchase of property and equipment (77,192) (93,571) (112,457)Proceeds from sale of assets 3,035 – –Purchases of investments (2,492) (4,286) (11,135)Proceeds from sale of investments 6,698 7,225 3,821Cash assumed with acquisitions, net of cash acquired – – 2,841Net cash used in investing activities (69,951) (90,632) (116,930)

Financing activitiesPayments of loan issuance costs (2,188) – (12,661)Proceeds from borrowings on sale leaseback – – 15,000Repayments on line of credit – – (175,454)(Repayments) borrowings on revolving credit facility (36,378) 12,418 323,721Payments on long-term debt (22,405) (40,181) (250,841)Payments on capital lease obligations (67,307) (47,714) (45,610)Proceeds from long-term debt borrowing 50,000 8,142 212,035Payments on related-party note (10,000) – –Cash distributions (35,260) (11,849) (27,971)Cash distributed with distributions of hospitals – – (808)Net cash (used in) provided by financing activities (123,538) (79,184) 37,411

Net increase (decrease) in cash and cash equivalents 22,584 (45) 58,726Cash and cash equivalents, beginning of year 171,942 171,987 113,261Cash and cash equivalents, end of year $ 194,526 $ 171,942 $ 171,987


Consolidated Statements of Cash Flows(Dollars in Thousands)

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Supplemental cash flow informationCash paid during the year for:

Interest $ 140,253 $ 151,887 $ 156,264Income taxes $ 1,457 $ 5,456 $ 1,600

Supplemental disclosure of noncash investing andfinancing activities

Financing obligations incurred for the acquisition of propertyand equipment $ 25,047 $ 47,692 $ 68,162

Property, plant, and equipment included in accounts payable $ 3,809 $ 4,943 $ 2,216Noncash distribution of hospital to stockholder $ – $ – $ 66,652Financed asset under construction $ 14,324 $ – $ –Sale leaseback of facilities $ – $ – $ 63,000Conversion of debt to sale leaseback $ – $ – $ 100,000


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Notes to Consolidated Financial Statements(Dollars in Thousands)

Years Ended December 31, 2018, 2017, and 2016

1. Basis of Presentation and Significant Accounting Policies

Nature of Business

Prime Healthcare Services, Inc. and Subsidiaries (collectively, the “Company” or “PHSI”) ownsand operates general acute care hospitals in communities across the United States. The Companyis a wholly owned subsidiary of Prime Healthcare Holdings, Inc. (“PHHI”).

As of December 31, 2018, the Company wholly owned and operated 30 acute care hospitals, with6,073 licensed beds located in various communities in 11 states. The Company’s operationsalso include medical groups and other operations related to its hospital business.

Principles of Consolidation and Basis of Presentation

The consolidated financial statements have been prepared in accordance with accountingprinciples generally accepted in the United States of America (“U.S. GAAP”) and include theaccounts of the Company, and its subsidiaries, all of which are controlled by the Company throughmajority voting control and variable interest entities for which the Company is the primarybeneficiary.

The Company has a variable interest in certain medical groups and other entities. The other entitiesprimarily consist of Prime Healthcare Management, Inc. (“PHM”) and Prime HealthcareManagement II, Inc. (“PHM II”). PHM provides management services to certain PHSI hospitals.PHM II provides management services to certain PHSI hospitals and Prime Healthcare Foundation(“PHF”) hospitals. The Company has determined that certain medical groups are variable interestentities (“VIE”s) due to the equity interest holder’s lack of ability to exercise control. TheCompany has determined that the other entities are variable interest entities due to a lack ofsufficient equity at risk. The Company has also determined that it is the primary beneficiary of themedical groups and other entities because the Company has both of the following: (1) the powerto direct the activities of the VIE that most significantly impact the VIE’s economic performanceand (2) the obligation to absorb losses of, or the right to receive benefits from, the VIE that couldpotentially be significant to the VIE. Accordingly, the Company has consolidated these entities.The creditors of these variable interest entities do not have recourse to the general credit of theprimary beneficiary.

All intercompany accounts and transactions have been eliminated upon consolidation.Noncontrolling interests in less-than-wholly-owned consolidated subsidiaries of the Company arepresented as a component of total equity to distinguish between the interests of the Company andthe interests of the noncontrolling owners.


Notes to Consolidated Financial Statements (continued)(Dollars in Thousands)

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1. Basis of Presentation and Significant Accounting Policies (continued)

The equity of the VIEs has been reflected as a noncontrolling interest as of December 31, 2018and 2017. The consolidation of these entities does not change any legal ownership, and does notchange the assets or the liabilities and equity of PHSI as a stand-alone entity. These entities hadtotal revenues of approximately $238,374, $273,667 and $289,379 (including revenues of$122,079, $163,050, $204,991 related to PHSI) for the years ended December 31, 2018, 2017, and2016, respectively. The 2017 decrease in revenues is the result of PHMI and PHMII changing themethod of calculating management fees charged to PHSI hospitals.

Total assets and total liabilities of VIEs are as follows:


AssetsCurrent assets:

Cash and cash equivalents $ 9,497 $ 4,377Restricted cash 254 –Patient accounts receivable, net 3,702 4,738Supplies inventory 208 95Related-party receivables 364,696 395,301Notes receivable 263 93Prepaid expenses and other current assets 3,622 3,658

Total current assets 382,242 408,262Property and equipment, net 59,263 61,636Insurance claims and reserves recoverable 1,818 4,330Other assets 3,845 3,761Total assets $ 447,168 $ 477,989

LiabilitiesCurrent liabilities:

Accounts payable $ 5,440 $ 10,813Accrued expenses 19,180 17,047Current portion of related-party payables 20,000 –Current portion of capital lease 4,113 3,300Current portion of long-term debt 8,431 10,664

Total current liabilities 57,164 41,824Insurance claims liabilities and reserves 3,157 5,917Related-party payables, net of current portion – 30,000Capital leases, net of current portion 1,660 4,046Long-term debt, net of current portion 23,893 20,654Total liabilities $ 85,874 $ 102,441



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Net Patient Service Revenue

Net patient service revenue is reported at the estimated net realizable amounts from patients,third-party payors, and others for services rendered, including estimated retroactive adjustmentsunder reimbursement agreements with third-party payors. Revenues are recorded during the periodthe health care services are provided, based upon the estimated amounts due from the patients andthird-party payors. In some cases, reimbursement is based on formulas which cannot be determineduntil cost reports are filed and audited or otherwise settled by the various programs. See Note 2 forfurther discussion of the Company’s payment arrangements with its third-party payors.

The following is a summary of sources of net patient service revenues (net of contractualallowances and discounts) before provision for doubtful accounts:


Medicare $ 1,464,123 $ 1,561,204 $ 1,412,950Medicare Managed Care 549,019 499,043 437,128Medicaid 258,396 266,890 254,934Medicaid Managed Care 478,600 492,700 428,527Commercial – contracted 926,275 988,747 992,177Commercial – non-contracted 321,223 293,344 285,593Self-pay/other 91,568 130,412 216,784

$ 4,089,204 $ 4,232,340 $ 4,028,093

Charity Care

The Company provides care to patients who lack financial resources and are deemed to bemedically indigent based on criteria established under the Company’s charity care policy. Thiscare is provided without charge or at amounts less than the Company’s established rates. Becausethe Company does not pursue collection of amounts determined to qualify as charity care, suchamounts are not reported as revenue. The direct and indirect costs related to this care totaledapproximately $47,187, $36,281, and $54,838 for the years ended December 31, 2018, 2017, and2016, respectively. Direct and indirect costs for providing charity care are estimated by calculatinga ratio of cost to gross charges and then multiplying that ratio by the gross uncompensated charges



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associated with providing care to charity patients. In addition, the Company provides services toother medically indigent patients under various state Medicaid programs. Depending on the state,such programs pay amounts that are less than the cost of the services provided to the recipients.

Allowance for Contractual Adjustments and Doubtful Accounts

The Company’s patient accounts receivable are reduced by allowances for contractual adjustmentsand doubtful accounts. In evaluating the collectability of patient accounts receivable, the Companyanalyzes its historical collections and identifies trends for each of its major payor sources ofrevenue to estimate the appropriate allowances for contractual adjustments and doubtful accounts.Management regularly reviews data from these major payor sources of revenue in evaluating thesufficiency of these allowances. For receivables associated with self-pay patients, the Companyrecords a provision for doubtful accounts in the period of service on the basis of its past experience,which indicates that many patients are unable or unwilling to pay the portion of their bill for whichthey are financially responsible. The difference between the expected rates (or the discounted ratesif negotiated) and the amounts actually collected after all reasonable collection efforts have beenexhausted is charged off against the allowance for doubtful accounts.

Premium Revenue and Medical Claims Expense

The Company has agreements with various Health Maintenance Organizations (“HMO”s) toprovide medical services to enrollees. Under these agreements, the Company receives monthlypremium revenue based on the number of each HMO’s enrollees, regardless of services actuallyperformed by the Company. Premium revenue under HMO contracts is recognized during theperiod in which the Company is obligated to provide services. Certain HMO contracts also containshared-risk provisions, whereby the Company can earn additional incentive revenue or incurpenalties based upon the utilization of inpatient hospital services by assigned HMO enrollees. TheCompany estimates shared-risk revenue and expenses based upon inpatient and outpatientutilization.

The cost of health care services consists primarily of capitation and claims payments, pharmacycosts, and incentive payments to contracted providers. These costs are recognized in the periodincurred, or when the services are provided. Claims costs also include an estimate of the cost ofservices which have been incurred but not yet reported to the Company.



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Other Operating Revenue

Other operating revenue consists of fees earned by the Company for management servicesprovided to PHF, equipment procurement services, outsourced business office, informationtechnology support services, coding and other revenue cycle services provided to PHF (seeNote 9).

Supplies Inventory

Supplies inventory is stated at the lower of cost, determined by the average cost method, or netrealizable value. Inventories consist primarily of medical and surgical supplies andpharmaceuticals.

Property and Equipment

Property and equipment is stated at cost or, in the case of acquisitions, at their acquisition date fairvalues. Depreciation is computed using the straight-line method over the estimated useful lives ofthe assets, which range from 3 to 30 years. Amortization of leasehold improvements is computedover the lesser of the lease term or the estimated useful lives of the assets and is included indepreciation and amortization expense. Equipment capitalized under capital lease obligations isamortized over the lesser of the life of the lease term or the useful life of the asset.

Long-Lived Assets

The Company reviews long-lived assets for impairment whenever events or changes incircumstances indicate that the carrying value of such assets may not be recoverable. The Companyconsiders assets to be impaired and writes them down to fair value if estimated undiscounted cashflows associated with those assets are less than their carrying amounts. Fair value is based uponthe present value of the associated cash flows. Changes in circumstances (for example, changes inlaws or regulations, technological advances, or changes in strategies) may also reduce the usefullives from initial estimates. Changes in the planned use of intangible assets may result fromchanges in customer base, contractual agreements, or regulatory requirements. In suchcircumstances, management will revise the useful life of the long-lived asset and amortize the



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remaining net book value over the adjusted remaining useful life. The Company recorded a $50impairment related to a noncompete agreement during the year ended December 31, 2018. Therewere no impairments of long-lived assets recorded during the years ended December 31, 2017,and 2016.

Use of Estimates

The preparation of consolidated financial statements in conformity with accounting principlesgenerally accepted in the United States requires management to make estimates and assumptionsthat affect the reported amounts of assets and liabilities and disclosure of contingent assets andliabilities at the date of the consolidated financial statements and the reported amounts of revenuesand expenses during the reporting period. Actual results could differ from those estimates.Principal areas requiring the use of estimates include third-party settlements; allowances forcontractual discounts and doubtful accounts; impairment of goodwill; impairment and useful livesof long-lived assets; professional liability, general liability, and medical claims reserves; andreserves for legal contingencies.

Income Taxes

The Company has elected to be taxed under the provisions of subchapter S of the Internal RevenueCode (“IRC”). Under these provisions, the Company does not pay federal corporate income taxeson its taxable income. However, the Company is subject to a 1.5% California franchise tax alongwith applicable income taxes in the states where the Company has operations. The stockholder ofPHSI is taxed on their proportionate share of the Company’s taxable income as defined by theIRC. The Company distributes funds necessary to satisfy the stockholder’s tax liability. Based ontax positions taken, or to be taken, by the applicable stockholder, $164,000 and $7,000 of incomepreviously taxed as of December 31, 2018 and 2017, respectively, could, if available, bedistributed to the stockholder of PHSI and $315,000 and $363,000, respectively, of incomepreviously taxed could, if available, be distributed to the stockholder of PHM and PHM II.

The literature related to uncertain tax positions prescribes a recognition threshold andmeasurement process for accounting for uncertain tax positions and also provides guidance onvarious related matters such as derecognition, interest, penalties, and disclosures required. TheCompany does not have any entity-level uncertain tax positions. The Company files income taxreturns in the U.S. federal jurisdiction and various state and local jurisdictions. Generally, the



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Company is subject to examination by federal tax authorities for three years from the filing of atax return and state and local tax authorities for four years from the filing of the state tax return.The Company is currently under examinations by U.S. federal for 2012 tax year and by theCalifornia Franchise Tax Board for tax years 2009 to 2016.

Deferred tax assets (“DTAs”) and liabilities are recorded for differences between the financialstatement and tax basis of the assets and liabilities that will result in taxable or deductible amountsin the future based on enacted laws and rates applicable to the periods in which the differences areexpected to affect taxable income. The company has recorded a full valuation allowance over itsdeferred tax assets and liabilities based on the weight of available evidence that it is more likelythan not that its DTAs will be realized. The major components of the Company’s DTAs relate tothe allowance for doubtful accounts and fixed assets.

Cash and Cash Equivalents

The Company considers all highly liquid investments with an original maturity of three months orless when purchased to be cash equivalents.

Other Assets

Other assets primarily consist of intangible assets arising from business combinations (see Note 4)and equity method investments.

Goodwill

Goodwill represents the excess of the consideration paid and liabilities assumed over the fair valueof the net assets acquired, including identifiable intangible assets.

Management evaluates goodwill for impairment on an annual basis (October 1) and wheneverevents and changes in circumstances suggest that the carrying amount may not be recoverable.Impairment of goodwill is tested at the reporting unit level by comparing the reporting unit’scarrying amount, including goodwill, to the fair value of the reporting unit. The fair values of thereporting units are estimated using a combination of the income or discounted cash flow approachand the guideline merged and acquired company approach, which uses comparable market data.



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On January 1, 2017, the Company early adopted Financial Accounting Standards Board (“FASB”)Accounting Standards Update (“ASU”) 2017-04, Simplifying the Test for Goodwill Impairment.Prior to the adoption of ASU 2017-04, there was a two-step method for determining goodwillimpairment. Step one was to compare the fair value of the reporting unit with the unit’s carryingamount, including goodwill. If this test indicated the fair value was less than the carrying value,then step two was required to compare the implied fair value of the reporting unit’s goodwillutilizing a hypothetical purchase price allocation with the carrying value of the reporting unit’sgoodwill. The new guidance eliminates the requirement to calculate the implied fair value ofgoodwill to measure a goodwill impairment charge. Instead, entities record an impairment chargebased on the excess of a reporting unit’s carrying amount over its fair value. The Companyperformed its last annual goodwill evaluation on October 1, 2018.

During the year ended December 31, 2017, the Company determined that goodwill related toLower Bucks Hospital, Saint Mary’s Regional Medical Center and Medical Group, and St. Mary’sGeneral Hospital was fully impaired. Accordingly, the Company recorded a charge to theconsolidated statements of operations of $44,879.

During the year ended December 31, 2016, the Company determined that goodwill related toDallas Medical Center, Dallas Regional Medical Center, Riverview Regional Medical Center,North Vista Hospital, Lehigh Regional Medical Center, and High Desert Heart Vascular Institutewas fully impaired. Accordingly, the Company recorded a charge to the consolidated statementsof operations of $32,961.

The impairments recorded in 2017 and 2016 were the result of lower projected future earnings ofthe impaired reporting units and were calculated under the two-step method mentioned above. Noimpairments related to goodwill were recognized in 2018, as the fair values exceeded the carryingamounts of each reporting unit.



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Fair Value of Financial Instruments

The Company’s consolidated balance sheets include the following financial instruments: cash andcash equivalents, restricted cash, patient accounts receivable, short-term investments, related-partyreceivables and payables, accounts payable, accrued expenses, and long-term debt. The Companyconsiders the carrying amounts of current assets and current liabilities in the consolidated balancesheets to approximate the fair value of these financial instruments and their expected realization.As long-term debt has variable interest rates, the carrying value approximates fair value in theconsolidated balance sheets.

Fair Value Measurement

Relevant accounting guidance establishes a framework for measuring fair value and clarifies thatfair value is an exit price, representing the amount that would be received to sell an asset or paidto transfer a liability in an orderly transaction between market participants.

The guidance requires disclosure about how fair value is determined for assets and liabilities andestablishes a hierarchy for which these assets and liabilities must be grouped, based on significantlevels of inputs, as follows: Level 1 quoted prices in active markets for identical assets orliabilities; Level 2 quoted prices in active markets for similar assets and liabilities and inputs thatare observable for the asset or liability; or Level 3 unobservable inputs for the asset or liability,such as discounted cash flow models or valuations. The determination of where assets andliabilities fall within this hierarchy is based upon the lowest level of input that is significant to thefair value measurement.

Financial Items Measured at Fair Value on a Recurring Basis

The Company sponsors the Garden City Hospital Osteopathic Employee Pension Plan(the “Plan”). The Plan includes investments which are measured at fair value on a recurring basis.The majority of the Plan’s investments are recorded at net asset value as a practical expedient forfair value. The remaining investments are measured using Level 3 inputs (see Note 11).



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Concentration of Credit Risk

Cash and cash equivalents are maintained at financial institutions and, generally, balances mayexceed federally insured limits of $250 per depositor at each financial institution. The Companyhas not experienced any losses to date related to these balances. Management monitors thefinancial condition of these institutions on an ongoing basis and does not believe any significantcredit risk exists as of December 31, 2018.

At December 31, 2018 and 2017, patient accounts receivable were comprised of the followinggovernment programs; Medicare 39% and 41%, respectively; Medicaid 17% and 17%,respectively; health maintenance and preferred provider organizations (managed care programs)25% and 23%, respectively; and private pay and commercial insurance patients 19% and 19%,respectively. Management believes there are minimal credit risks associated with receivables fromgovernment programs. Receivables from managed care programs and others are from variouspayors who are subject to differing economic conditions and do not represent concentrated risksto the Company. Management continually monitors and adjusts the reserves associated withreceivables.

Recent Accounting Pronouncements

In May 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers, whichoutlines a single comprehensive model for recognizing revenue and supersedes most existingrevenue recognition guidance, including guidance specific to the health care industry. ASU 2014-09 will require new and enhanced disclosures. Companies can adopt the new standard either usingthe full retrospective approach, a modified retrospective approach with practical expedients, or acumulative effect upon adoption approach. In July 2015, the FASB issued a final ASU (ASU2015-14, Revenue from Contracts with Customers (Topic 606): Deferral of Effective Date), thatdefers the effective date by one year, with early adoption permitted. This update is effective onJanuary 1, 2019 for the Company. The Company will adopt the new standard effective January 1,2019, and will use the modified retrospective approach. The Company is currently evaluating theimpact of its pending adoption of the new standard on its consolidated financial statements.



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In February 2016, the FASB issued ASU 2016-02, Leases (Topic 842). ASU 2016-02 establishesa right-of-use (“ROU”) model that requires a lessee to record a ROU asset and a lease liability onthe balance sheet for all leases with terms longer than 12 months. Leases will be classified as eitherfinance or operating, with classification affecting the pattern of expense recognition in the incomestatement. The new standard will become effective for annual reporting periods beginningDecember 15, 2019. A modified retrospective transition approach is required for lessees for capitaland operating leases existing at, or entered into after, the beginning of the earliest comparativeperiod presented in the financial statements, with certain practical expedients available. TheCompany is currently evaluating the impact of its pending adoption of the new standard on itsconsolidated financial statements.

In November 2016, the FASB issued ASU 2016-18, Statement of Cash Flows (Topic 230):Restricted Cash (a consensus of the FASB Emerging Issues Task Force), which provides guidanceon the presentation of restricted cash or restricted cash equivalents on the statement of cash flows.ASU 2016-18 is effective for nonpublic business entities in fiscal years beginning afterDecember 15, 2018, and interim periods within fiscal years beginning after December 15, 2019.The Company is in the process of evaluating the impact of this update on its consolidated financialcondition, results of operations, and liquidity.

Reclassifications

Certain prior-year amounts on the balance sheet and cash flows related to accrued expenses,medical claims payable, related-party payables, long-term debt, other long-term liabilities, andcapital leases and certain prior-year amounts on the income statement related to employee benefitsand medical claims were reclassified to conform to the current year presentation. There was nochange in reported net income/(loss), comprehensive income/(loss), stockholder’s equity, orclassifications within the statement of cash flows related to these reclassifications.



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2. Revenue Recognition

The Company has arrangements with third-party payors that provide for payments to the Companyat amounts different from its established rates. A summary of the payment arrangements withmajor third-party payors is as follows:

Medicare

Inpatient acute-care services rendered to Medicare program beneficiaries are paid at prospectivelydetermined rates per discharge. These rates vary according to a patient classification system thatis based on clinical, diagnostic, and other factors. Medicare reimburses the Company for coveredoutpatient services rendered to Medicare beneficiaries by way of an outpatient prospectivepayment system based on ambulatory payment classifications. The Company’s classification ofpatients under the Medicare program and the appropriateness of their admissions are subject to anindependent review. The Company is also paid for services rendered to Medicare managed careprogram beneficiaries, also known as Medicare Part C, or Medicare Advantage, where the federalgovernment contracts with private insurers to provide members with Medicare benefits.

Inpatient non-acute services, certain outpatient services, medical education costs, and definedcapital costs related to Medicare beneficiaries are paid based, in part, on a cost reimbursementmethodology. The Company is reimbursed for cost reimbursable items at a tentative rate, withfinal settlement determined after the submission of annual cost reports and audits thereof by theMedicare fiscal intermediary. The estimated amounts due to or from the program are reviewed andadjusted annually based on the status of such audits and any subsequent appeals. Differencesbetween final settlements and amounts accrued in previous years are reported as adjustments tonet patient service revenue in the year that examination is substantially completed. Thesedifferences decreased net patient revenue by approximately $11,706 and $14,241, respectively, forthe years ended December 31, 2018 and 2017, and increased net patient service revenue byapproximately $1,499 for the year ended December 31, 2016. The Company does not believe thatthere are significant credit risks associated with this government agency.

Medicaid

Inpatient services rendered to Medicaid program beneficiaries in the states in which the Companyoperates are reimbursed under a prospective payment system. Outpatient services are reimbursedbased on a mixture of fee schedules and a cost reimbursement methodology. The Company isreimbursed for cost reimbursable services at tentative rates, with final settlement determined after



1808-2856776 22

2. Revenue Recognition (continued)

submission of annual cost reports and audits thereof by the Medicaid state auditors. The Companyalso participates in Medicaid managed care arrangements. Payments for services of Medicaidbeneficiaries that participate in those programs include prospectively determined rates and feeschedule payments. The estimated amounts due to or from the Medicaid state audits are reviewedand adjusted annually based on the status of such audits and any subsequent appeals. Differencesbetween final settlements and amounts accrued in previous years are reported as adjustments tonet patient service revenue in the year examination is substantially complete. These differencesdecreased net patient service revenue by approximately $1,157, $1,963, and $5,544 for the yearsended December 31, 2018, 2017, and 2016, respectively. The Company does not believe that thereare significant credit risks associated with these government agencies.

Insurance, Health Maintenance Organizations, and Preferred Provider Organizations

The Company has also entered into agreements with certain commercial insurance carriers, healthmaintenance organizations, and preferred provider organizations. The basis for payment to theCompany under these agreements includes prospectively determined rates per discharge, discountsfrom established charges, and prospectively determined daily rates.

Other

The Company also provides its services to patients enrolled in programs of commercial insurancecarriers, health maintenance organizations, and preferred provider organizations under which theCompany does not have agreements. The Company recognizes revenue for these patients based onusual and customary rates for these services, adjusted for historical trends in the Company’sreimbursement for similar services.

Laws and regulations governing the third-party payor arrangements are extremely complex andsubject to interpretation. As a result, there is at least a reasonable possibility that recorded estimateswill change by a material amount in the near term. Normal estimation differences betweensubsequent cash collections on patient accounts receivable and net patient accounts receivableestimated in the prior year are reported as adjustments to net patient service revenue in the currentperiod. These differences did not materially affect net patient service revenue for the years endedDecember 31, 2018 and 2017, but decreased net patient service revenue by $124,000 for the yearended December 31, 2016, primarily due to the Company’s strategy of migrating to a commoninformation technology platform and consolidating many of the individual hospital businessoffices into regional business offices, which resulted in a significant decrease in cash collections.



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Meaningful Use Incentives

The American Recovery and Reinvestment Act of 2009 (“ARRA”) established incentive paymentsunder the Medicare and Medicaid programs for certain professionals and hospitals thatmeaningfully use certified electronic health record (“EHR”) technology. The Medicare incentivepayments are paid out to qualifying hospitals over four consecutive years on a transitionalschedule. To qualify for Medicare incentives, hospitals and physicians must meet EHR“meaningful use” criteria that become more stringent over three stages designated by the Centersfor Medicare and Medicaid (“CMS”).

Medicaid programs and payment schedules vary from state to state. The Medicaid programsrequired hospitals to register for the program prior to 2016 to engage in efforts to adopt, implement,or upgrade certified EHR technology in order to qualify for the initial year of participation, and todemonstrate meaningful use of certified EHR technology in order to qualify for payment for up tothree additional years.

The Company recorded estimated incentive payments of $5,853, and $4,958 for fiscal years 2017and 2016, respectively, and no incentive payments were recorded in 2018 related to the Medicareand Medicaid programs. These incentives have been recognized following the grant accountingmodel, recognizing revenue ratably over the applicable reporting period as management becomesreasonably assured of meeting the required criteria. Subsequent changes to these estimates will berecognized in the consolidated statements of operations in the period in which additionalinformation is available. Such estimates are subject to audit by the federal government, the state,or its designee.

Hospital Fee Programs

The Company recognizes revenues related to supplemental Medi-caid payments under CaliforniaHospital Quality Assurance (“CHQA”) programs. These programs are funded by quality assurancefees paid by participating hospitals and matching federal funds.

Legislation approved by the State of California in October 2013 created the framework for theprovider fee to continue in perpetuity without requiring further legislation by the State. Proposition52 was passed in November 2016, which made permanent the current provider fee program andplaces limits on the ability of the State of California to reallocate funds for non-health carepurposes.



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Two CHQA programs had activity in 2016, 2017, and 2018: a 36-month hospital fee programcovering the period from January 1, 2014 through December 31, 2016, and a 30-month hospitalfee program covering the period from January 1, 2017 through June 30, 2019. Prior to 2017, thetiming of revenue and expense recognition of the CHQA program was based on the timing of CMSapproval, which did not consistently match the timing of the various hospital fee programs due todelays in approvals. With the passage of time and the administration of the CHQA programs, ithas been determined that there is persuasive evidence that an arrangement exists despite whetherCMS has finalized the actual amounts paid. Effective December 31, 2017, the Companydetermined the supplemental payments and quality assurance fees met all criteria related torevenue and expense recognition, respectively. Accordingly, in 2017, all previously unrecognizedsupplemental payments and related quality assurance fees relating to 2014 to 2017 were recognizedas patient service revenue and as provider fee expense, respectively. The Company recorded a netbenefit of $175,600 during 2017, with $110,300 from the 36-month program and $65,300, fromthe 30-month program. During 2018, the Company recorded a net benefit of $74,100, all of whichwas from the 30-month program.

The Company recognized supplemental payments, included in net patient service revenue, andquality assurance fee expense, included in general and administrative expenses in theaccompanying consolidated statements of operations as follows:


Net patient service revenue $ 204,100 $ 338,709 $ 180,503General and administrative expense (129,952) (163,081) (137,064)Net pretax impact of California hospital fee

program $ 74,148 $ 175,628 $ 43,439

Amounts recorded on the balance sheets with respect to the California hospital fee program areincluded in provider fee receivable and provider fee payable.



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Other states have programs that are similar in nature to California, with amounts concentrated inNew Jersey, Michigan, Missouri, Alabama, and Texas. For the years ended December 31, theCompany recognized supplemental payments, included in net patient service revenue, and qualityassurance fee expense, included in general and administrative expenses in the accompanyingconsolidated statements of operations as follows for states other than California:

December 31, 2018Total NJ MI MO AL TX Other States

Net patient service revenue $ 103,158 $ 21,695 $ 20,602 $ 21,771 $ 10,592 $ 12,309 $ 16,189General and administrative expenses (45,400) – (5,740) (13,570) (4,543) (12,818) (8,729)Net impact of hospital fee programs $ 57,758 $ 21,695 $ 14,862 $ 8,201 $ 6,049 $ (509) $ 7,460


Net patient service revenue $ 78,977 $ 17,986 $ 15,485 $ 18,434 $ 10,500 $ 9,188 $ 7,384General and administrative expenses (35,410) (1,020) (5,364) (13,751) (4,759) (4,320) (6,196)Net impact of hospital fee programs $ 43,567 $ 16,966 $ 10,121 $ 4,683 $ 5,741 $ 4,868 $ 1,188


Net patient service revenue $ 69,943 $ 10,948 $ 15,348 $ 16,307 $ 8,278 $ 9,215 $ 9,847General and administrative expenses (35,181) (82) (3,460) (14,366) (7,093) (3,002) (7,178)Net impact of hospital fee programs $ 34,762 $ 10,866 $ 11,888 $ 1,941 $ 1,185 $ 6,213 $ 2,669

3. Acquisitions and Distributions

Acquisitions

There were no acquisitions made in 2018 and 2017. During the year ended December 31, 2016,the Company entered into the acquisitions listed below. All business combinations were consistentwith the Company’s strategic growth plan and were accounted for using the acquisition method ofaccounting. Operating results for each of the acquisitions have been included in the accompanyingconsolidated financial statements from the date of acquisition. The goodwill arising from theseacquisitions is primarily attributable to the synergies expected to arise after the acquisitions and isexpected to be deductible for tax purposes for entities that were asset acquisitions.



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3. Acquisitions and Distributions (continued)

During 2016, the Company acquired two hospitals:

Facility Acquisition Date Type

Lehigh Regional Medical Center(1) February 1, 2016 AssetSt. Michael’s Medical Center(1) May 1, 2016 Asset

(1) Acquisition includes hospital along with physician group.

The following table presents the allocation of the aggregate purchase price for each of the hospitalspurchased in 2016:

Lehigh RegionalMedical Center

St. Michael’sMedical Center Total

Cash $ – $ 12,996 $ 12,996Patient accounts receivable – 14,220 14,220Supplies inventory 864 4,466 5,330Prepaid expenses 237 817 1,054Property and equipment 9,492 46,810 56,302Intangible assets 990 5,160 6,150Goodwill 1,300 9,559 10,859Other assets – 929 929Liabilities (290) (34,425) (34,715)Consideration $ 12,593 $ 60,532 $ 73,125

Distributions

Effective December 31, 2018, PHM II distributed intercompany management fee receivables (duefrom PHSI hospitals) with a carrying value of $48,000 to PHF on behalf of PHM II’s controllingstockholder, subject to a subordination agreement the Company and PHF entered into with WellsFargo, which stipulates that the Company’s term loan borrowings are required to be paid off beforethe payment of such management fees to PHF can be made. Such distribution will be recorded ifand when the applicable management fees are paid to PHF.



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3. Acquisitions and Distributions (continued)

Effective December 31, 2016, the Company distributed its ownership interests in LandmarkMedical Center, Rehabilitation Hospital of Rhode Island, and Landmark Physician Office Services(collectively, the “Rhode Island businesses”) to PHF on behalf of its controlling stockholder.

The following table summarizes the carrying amounts of the components of assets and liabilitiesdistributed:

Rhode IslandBusinesses

Cash $ 808Patient accounts receivable, net 22,917Supplies inventory 2,012Prepaid expenses 1,375Estimated third-party payor settlements (1,002)Property and equipment 41,558Other assets 9Insurance claims liabilities and reserves (1,025)

$ 66,652

In conjunction with the distributions, all liabilities of the facilities that were distributed wereretained by PHSI, except for the estimated third-party settlements and insurance claims liabilitiesand reserves of the Rhode Island businesses, which liabilities were assumed by PHF. Operatingresults for the distributions have been included in the accompanying consolidated financialstatements through the date of distribution.



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4. Goodwill and Intangible Assets

Goodwill

The changes in the carrying amount of goodwill are as follows:

Year Ended December 312018 2017

Balance, beginning of year $ 40,430 $ 82,727Reclassifications from other assets related to

acquisitions of medical groups in prior years 379 2,582Impairment – (44,879)

Balance, end of year $ 40,809 $ 40,430

Gross goodwill as of December 31, 2018 and 2017 was $118,649 and $118,270, respectively foreach year. Accumulated impairment losses as of the same balance sheet dates were $77,840respectively.

Intangible Assets

The Company’s intangible assets consist of trade names, which were acquired in connection withacquisitions, and are amortized over 10–15 years.

The gross carrying amount of the Company’s trade names was $32,282 at December 31, 2018 and2017, and the net carrying amount was $20,565 and $23,637 at December 31, 2018 and 2017,respectively, and are recorded in other assets (non-current).

The weighted average remaining amortization period for intangible assets subject to amortizationis approximately 11 years. There are no expected residual values related to these intangible assets.



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4. Goodwill and Intangible Assets (continued)

Amortization expense on these intangible assets was $2,924, $3,588, and $3,268 during the yearsended December 31, 2018, 2017, and 2016, respectively. Expected amortization expense onintangible assets for the five years subsequent to December 31, 2018, and thereafter, are as follows:

Years ending December 31:2019 $ 2,4142020 1,9382021 1,9382022 1,9382023 1,758Thereafter 10,579

$ 20,565

5. Property and Equipment

Property and equipment consist of the following at December 31:

2018 2017

Land $ 150,903 $ 150,346Buildings and building improvements 911,733 860,324Equipment 987,759 919,614

2,050,395 1,930,284Less: Accumulated depreciation and amortization (891,021) (721,522)

1,159,374 1,208,762

Construction in progress 94,982 96,888$ 1,254,356 $ 1,305,650

Depreciation expense was $169,464, $164,276, and $152,774 for the years ended December 31,2018, 2017, and 2016, respectively.



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5. Property and Equipment (continued)

Gross property and equipment includes approximately $367,046 and $324,908 of equipment undercapital lease arrangements as of December 31, 2018 and 2017, respectively. Related accumulatedamortization totaled approximately $172,137 and $115,240 as of December 31, 2018 and 2017,respectively. Amortization of equipment held under capital leases is included in the depreciationand amortization amounts disclosed above.

6. Long-Term Debt and Revolving Credit Facility

On January 26, 2016, the Company closed a $700,000 senior secured credit facility (the “Facility”)lead jointly by Wells Fargo Bank, N.A. and Barclays Bank, PLC. Of the $700,000, $400,000 is arevolving facility, $200,000 is a term loan, and $100,000 is an accordion feature. The Facilitymatures on January 26, 2021. The term loan requires payments of $5,000 on a quarterly basis, withthe remaining outstanding balance due at maturity. The Facility bears interest at either the LondonInterbank Offered Rate (“LIBOR”) plus a margin, or the Base Rate, which is the greater of (a) theFederal Funds Rate plus 0.5%; (b) LIBOR plus 1%; or (c) the rate of interest announced by WellsFargo as its “prime rate,” plus a margin. The margins vary from 1% to 3% and are based upon theamount which has been borrowed under the revolving facility as compared to the amount that iscurrently available, based on a formula.

The Company recognized a loss on the extinguishment of the prior credit facility of approximately$9,400 in January 2016, representing the write off of unamortized loan costs, which is reflected ininterest expense in the accompanying consolidated statements of comprehensive loss.

On August 30, 2018, the Company and Wells Fargo Bank, N.A. entered into a second amendmentto the Facility, which included an additional $50,000 first-in, last-out revolving facility (the “FILOloan”) to provide additional liquidity following the United States Department of Justice settlement(refer to Note 12 for further details). Debt financing costs related to the FILO loan approximated$2,188. The Company concluded in accordance with ASC 470-50, Modifications andExtinguishments, that the second amendment to the Facility included a partial extinguishment as aresult of certain changes in participating lenders, which resulted in $600 of previously deferredfinancing costs being recorded as a loss on extinguishment included within interest expense forthe year ended December 31, 2018. The FILO loan matures on August 30, 2020, and requiresmonthly interest payments and quarterly principal payments of $5,000, starting on March 1, 2019,with the remaining outstanding balance due at maturity. At December 31, 2018, $299,700,$140,000, and $50,000 were outstanding on the revolving credit facility, the term loan, and the



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6. Long-Term Debt and Revolving Credit Facility (continued)

FILO credit facility, respectively. Interest rates on $290,000 of the revolving credit facilityapproximated 5.5% (LIBOR of 2.5% plus a margin of 3.0%) and 4.6% (LIBOR of 1.6% plus amargin of 3.0%) as of December 31, 2018 and 2017, respectively. Interest rates on the remainingamounts outstanding amounts on the revolving credit facility of $4,700 and $5,000 approximated7.5% (prime rate of 5.5% plus a margin of 2.0%) and 9.5% (prime rate of 5.5% plus a margin of4.0%) as of December 31, 2018. Interest rates on the remaining amounts outstanding amounts onthe revolving credit facility of $46,100 approximated 6.5% (prime rate of 4.5% plus a margin of2.0%). The Facility requires the Company to maintain certain financial and nonfinancialcovenants. The Company was in compliance with all covenants at December 31, 2018 and 2017.

Long-term debt consists of the following as of December 31:

Maturity TermsInterestRates (4)

InterestRates (5) 2018 2017

Loan with MPT, secured by Desert ValleyHospital and Chino Valley MedicalCenter facilities (owned by Prime A –See below) February 2022 (1) (2) 11.2% 11.1% $ 140,000 $ 140,000

Loan with MPT, secured by real propertyof Desert Valley Hospital January 2020 (1) (2) 11.0% 11.0% 12,500 12,500

Loan with MPT, secured by real propertyof Centinela Hospital Medical Center June 2022 (1) (2) 11.6% 11.4% 100,000 100,000

Note payable with MPT, secured bycertain property and equipment andlease deposits of Paradise ValleyHospital May 2022 (1) (2) 11.0% 10.7% 25,000 25,000

Note payable with MPT, secured bycertain property and equipment andlease deposits of Monroe Hospital July 2022 (1) (2) 10.0% 8.8% 2,966 5,000

Note payable with MPT, secured bycertain property and equipment andlease deposits of St. Joseph MedicalCenter and St. Mary’s Medical Center February 2025 (1) (2) 9.0% 8.8% 40,000 40,000

Note payable with MPT, secured bycertain property and equipment andlease deposits of Lake Huron MedicalCenter August 2020 (1) (2) 9.0% 8.8% 10,000 10,000



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Maturity TermsInterestRates (4)

InterestRates (5) 2018 2017

Term loan with BBVA Compass,secured by certain realproperty June 2019

Principal and interestof $153 payable

monthly(2) 5.0% 5.0% $ 24,853 $ 26,694Term loan agented by Wells

Fargo, secured by certain realproperty of the Company January 2021

Principal and interestof $5,000 paid

quarterly(2) 7.5% 6.6% 140,000 160,000

FILO Revolving Credit agentedby Wells Fargo, secured byaccounts receivable andrelated assets of the Company August 2020

Principal and interestof $5,000 paidquarterly(2) (3) 7.5% – 50,000 –

Other 1,145 1,420Total debt, before deferred financing costs 546,464 520,614Less: deferred financing costs (5,576) (5,786)Total debt, net of deferred financing costs 540,888 514,828Less: current portion of long-term debt (63,546) (20,612)

$ 477,342 $ 494,216

(1) Monthly payments of interest are due; the interest rates are subject to annual escalation increases of the greater of 2% or theconsumer price index. The interest rates related to the loan with MPT secured by the real property of Chino Valley MedicalCenter (“Chino”) and Desert Valley Hospital (“DVH”) are disclosed on a weighted average. Original mortgages of Chino’s$50 million and DVH’s $70 million are capped at 11%.

(2) Subject to financial and nonfinancial covenants. The Company was in compliance with these covenants at December 31, 2018.(3) Principal repayment of FILO revolving credit shall commence on March 1, 2019.(4) Interest rates as of December 31, 2018(5) Interest rates as of December 31, 2017



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Prime A, a company which is under common ownership with the Company, has title to and leasesthe Desert Valley Hospital and Chino Valley Medical Center facilities to the Company. As itrelates to debt due to Medical Properties Trust, Inc. (“MPT”) for these two facilities, the Companyand Prime A are co-borrowers on the loan. Because the Company pays on behalf of itself andPrime A, the entire loan is reflected on the financial statements of the Company under accountingliterature that requires an entity to measure obligations that it expects to pay on behalf of its co-obligors.

Aggregate annual principal maturities of long-term debt for the five years subsequent toDecember 31, 2018, and thereafter, are as follows, excluding deferred financing costs:

Years ending December 312019 $ 65,8962020 73,3472021 100,9542022 265,6242023 –Thereafter 40,643

$ 546,464

7. Leases

On July 3, 2012, the Company entered into a master lease agreement with subsidiaries of MPT,which replaced the existing leases for various real estate and hospital buildings that had beenacquired as part of various historical acquisitions. All of the legal entities that are parties to themaster lease agreement (which are the hospital entities themselves, as well as PHSI and Prime A)provide cross guarantees on the obligations to MPT, with the guarantees including both leasepayments under the master lease as well as indebtedness due to MPT. Prime A’s guarantee islimited to the indebtedness for which it is a co-borrower ($140,000, see Note 6 and below). Inconnection with the master lease agreement, the then-existing leases were reset to new 10-yearterms with options to extend the term by two 60-month periods. Monthly rent is defined as 10.75%of the lease base, subject to annual escalation of the greater of 2% or the consumer price index.The Company has the option to buy the properties at a price that is fixed at the time of enteringinto the lease. Due to the guarantee and option to purchase included in the lease, this transactionwas recognized as a finance obligation.



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7. Leases (continued)

In 2012 and 2013, the Company entered into additional transactions with MPT. The Company soldto MPT real estate and hospital buildings that had been acquired as part of the acquisitions ofRoxborough Memorial Hospital, Saint Mary’s Regional Medical Center, Providence MedicalCenter, and Saint John’s Hospital. Concurrent with these agreements, the Company entered intoan amendment to the master lease agreement, whereby the hospital properties and related medicaloffice buildings were added to the master lease, and, accordingly, the terms of these transactions(and the accounting treatment) are the same as described above.

During 2015 and 2016, in connection with the acquisitions of St. Joseph Medical Center in KansasCity, MO, and St. Mary’s Medical Center in Blue Springs, MO (February 2015), Lake Huron(September 2015), and St. Michael’s Medical Center (May 2016), the Company sold the relatedreal estate and hospital buildings to MPT. The Company then leased back the real estate andhospital buildings for periods of ten years, with options to extend the term of the lease for twoadditional five-year periods. Monthly rent is defined as 8.50% of the lease base, subject to annualescalation of the greater of 2% or the consumer price index. The Company has the right of firstrefusal to purchase the properties for the price that a third party offers. These transactions do notqualify for sale leaseback accounting because of the Company’s deemed continuing involvementwith the buyer-lessor, including the requirement to pay reserves for major repairs, which isconsidered a form of contingent collateral and results in the transaction being recorded under thefinancing method. Additionally, during 2016, the Company entered into a sale leasebacktransaction with respect to St. Clare’s Health System. Due to continuing involvement, thistransaction was recognized as a finance obligation. Later in 2016, an additional $15,000 infinancing was provided to St Clare’s LLC Boonton property.



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The Company’s sale leaseback liabilities consist of the following as of December, beforeunamortized loan costs:

Hospital

2018(1)Monthly

Rent

2017(2)Monthly

Rent 2018 2017Maturity

Date

Paradise Valley Hospital $ 223 $ 219 $ 23,000 $ 23,000 Jul 2022Alvarado Hospital Medical Center 679 665 70,000 70,000 Jul 2022San Dimas Community Hospital 126 124 13,000 13,000 Jul 2022San Dimas Medical Office Building 68 67 7,000 7,000 Jul 2022Garden Grove Hospital Medical Center 158 154 16,250 16,250 Jul 2022Garden Grove Medical Office Building 85 83 8,750 8,750 Jul 2022Roxborough Memorial Hospital 291 285 30,000 30,000 Jul 2022St. Mary’s Regional Medical Center 776 760 80,000 80,000 Jul 2022Dallas Medical Center 243 238 25,000 25,000 Jun 2023Providence Medical Center 582 570 60,000 60,000 Jun 2023St. John Hospital 146 143 15,000 15,000 Jun 2023St. Joseph Medical Center 602 590 80,000 80,000 Feb 2025St. Mary’s Medical Center 226 221 30,000 30,000 Feb 2025Lake Huron Hospital 150 147 20,000 20,000 Feb 2025St. Michael’s Medical Center 464 455 63,000 63,000 May 2031St. Clare’s Health System 865 847 115,000 115,000 May 2031

$ 5,684 $ 5,568 $ 656,000 $ 656,000

(1) Monthly base rent to MPT for year ending December 2018(2) Monthly base rent to MPT for year ending December 2017



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The Company leases the hospital properties and related other medical office buildings for WestAnaheim Medical Center and Shasta Regional Medical Center from MPT. All leases under thismaster lease agreement have a 10-year term (through July 2022), with options to extend the termby two 60-month periods. Monthly rent is defined as 10.75% of the lease base, subject to annualescalation of the greater of 2% or the consumer price index. These leases are accounted for asoperating leases. The West Anaheim Medical Center facility includes monthly rent payments ofapproximately $242 and $238 at December 31, 2018 and 2017, respectively. The Shasta RegionalMedical Center facility includes monthly rent payments of approximately $611 and $599 atDecember 31, 2018 and 2017, respectively.

On January 1, 2015, the Company entered into a lease agreement with MPT, in connection withthe acquisition of Monroe Hospital. The Company concluded in accordance with ASC 840-30-30,Capital Leases Initial Measurement, that the capital lease asset and obligation should be recordedat fair value, as the present value of the minimum lease payments exceeded the fair value of theleased property. Therefore, the lease was recorded as a capital lease on the consolidated balancesheets, with an initial value of approximately $9,300 maturing in July 2022. The total monthlylease payments paid to MPT for the lease were approximately $226 and $221 at December 31,2018 and 2017, respectively. Of these monthly payments, approximately $79 and $77 were appliedagainst Monroe’s $5,000 note payable due to MPT at December 31, 2018 and 2017, respectively(see Note 6).

The Company leases medical office buildings under master lease agreements with subsidiaries ofPrime A (see Note 9).

Lease expense, consisting primarily of building rent and equipment leases, amounted toapproximately $75,844, $70,109, and $69,274 for the years ended December 31, 2018, 2017, and2016, respectively, net of sublease income of $14,140, $18,268, and $16,323 for the years endedDecember 31, 2018, 2017, and 2016, respectively.

Capital leases bear interest (stated and/or implied) at rates ranging from 1.02% to 11.37% for allcapital leases, and have maturity dates through March 1, 2025.

Involvement in Asset Constructed by Landlord – Under ASC 840, Leases, a build-to-suitarrangement exists when a lessee, among other things, is financially involved during the assetconstruction period. In 2017, Prime A began construction of a new corporate office building for



1808-2856776 37


PHMI. In May 2017, Prime A, as landlord, entered into a date-certain lease with PHMI, as lessee,obligating PHMI to make lease payments regardless of whether construction was completed.Although, PHMI is not obligated to pay construction costs, PHMI, in substance, is the owner ofassets during the construction period. As construction of the corporate office building progresses,the Company will record the costs paid by the landlord to construct the building as construction inprogress and a related long-term financing obligation. As of December 31, 2018, the Company hasrecorded $14,323 of construction in progress costs within property and equipment and a relatedother long-term liability.

Future minimum lease payments, under this noncancelable lease, approximate $278 per month,adjusted annually for the change in CPI, for a term of 240 months through November 2038, totaling$66,720 throughout the duration of the agreement.

As of December 31, 2018, future minimum lease payments under noncancelable operating leases(with initial or remaining lease terms in excess of one year) and future minimum capital leasepayments are as follows:

Capital Leases

OperatingLease

Commitments

SaleLeaseback

CommitmentsYears ending December 31:

2019 $ 72,507 $ 50,266 $ 69,5502020 52,964 44,917 70,9412021 33,651 41,489 72,3592022 10,071 35,261 308,7892023 3,908 17,836 136,990Thereafter 1,677 88,513 463,881

174,778 278,282 1,122,510Less: noncancellable subleases – (25,057) –Total minimum payments 174,778 $ 253,225 1,122,510Less: amounts representing interest (15,384) (466,510)

159,394 656,000Less: current portion (66,208) –Less: deferred financing cost – (4,067)

$ 93,186 $ 651,933



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8. Professional Liability, Workers’ Compensation, and Healthcare Insurance

Desert Valley Insurance Limited (“DVIL”) provides workers’ compensation, professionalliability, and earthquake insurance coverage to the Company. DVIL is owned by Prime A.

Workers’ Compensation Insurance

DVIL provides workers’ compensation insurance on an occurrence basis. Under the terms of thepolicies, DVIL is obligated to insure each workers’ compensation claim up to a maximum of$1,000 per claim. Losses in excess of $1,000 per claim are insured by the Safety National InsuranceCompany with no general aggregate limit.

Professional Liability Insurance

DVIL provides professional liability insurance on a claims-made basis. Under this policy,insurance premiums cover only those claims reported during the policy term. Should the claimsmade policy not be renewed or replaced with equivalent insurance, claims related to occurrencesduring the policy term but reported after the policy’s termination may be uninsured. Under thecurrent policy, the medical groups of PHSI are covered up to $1,000 per claim and a $3,000 generalaggregate limit with no deductible. The hospitals of PHSI are covered up to $6,000 per claim withno deductible. Excess losses up to an additional $25,000 per incident and general aggregate areinsured by Illinois Union Insurance Company and excess losses up to an additional $10,000 perincident and general aggregate are insured by Endurance American Specialty Insurance Company.

U.S. GAAP requires that a healthcare facility recognize the estimated costs of malpractice claimsin the period of the incident of malpractice, if it is reasonably possible that liabilities may beincurred and losses can be reasonably estimated. The claims reserve is based on the best dataavailable to the Company; however, the estimate is subject to a significant degree of inherentvariability.

The estimate is continually monitored and reviewed, and as the reserve is adjusted, the differenceis reflected in current operations. While the ultimate amount of professional liability is dependenton future developments, management is of the opinion that the associated liabilities relating to theamounts incurred but not reported before the policy’s termination date, recognized in theaccompanying consolidated financial statements within insurance claims liabilities and reserves of$42,500 and $39,500 as of December 31, 2018 and 2017, respectively, are adequate to cover suchclaims. Management is not aware of any professional liability claims whose settlement, if any,would have a material adverse effect on the Company’s consolidated financial position.



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8. Professional Liability, Workers’ Compensation, and Healthcare Insurance (continued)

Medical Insurance

Effective January 1, 2017, the Company self-insures each employee medical claim. Claims areadjudicated by an independent third-party administrator. Losses in excess of $350 are covered bya reinsurance agreement with Desert Valley Insurance Ltd. at 90% of covered costs up to amaximum of $3,000 per covered member per incident, with no general aggregate limit.

9. Related-Party Transactions

Related-party receivables are unsecured, non-interest-bearing, due on demand, and consist of thefollowing:

Year EndedDecember 31

2018 2017

Prime A Investments, LLC and subsidiaries $ 1,407 $ 1,095Prime Healthcare Foundation, Inc. and subsidiaries 29,298 4,980

$ 30,705 $ 6,075

Related-party payables, current portion, consist of the following:


2018 2017

Desert Valley Insurance Limited $ 38,786 $ 36,522Prime Healthcare Foundation, Inc. and subsidiaries – 3,727Prime A Investments, LLC and subsidiaries, promissory

note, unsecured, bears interest at 6% per annum,principal and interest due on maturity (June 30, 2019) 20,000 –

$ 58,786 $ 40,249



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9. Related-Party Transactions (continued)

Long-term related-party payables consist of the following:


2018 2017Prime A Investments, LLC and subsidiaries, promissory

note, unsecured, bears interest at 6% per annum,principal and interest due on maturity (June 30, 2019) $ – $ 30,000

$ – $ 30,000

The Company recorded interest expense of $1,719, $1,800, and $5,124 for the years endedDecember 31, 2018, 2017, and 2016, respectively, related to the Prime A promissory notedescribed above. Accrued interest was $0 and $1,800 as of December 31, 2018 and 2017,respectively.

The Company has entered into certain agreements with PHF, a related party. Under theseagreements, (i) PHM II provides management services to PHF; (ii) Bio-Med, Inc. provides assetmanagement services, including, but not limited to, repairs and maintenance of medical equipment,to PHF; (iii) Hospital Business Services, Inc. provides outsourced business office services to PHF;fees relating to these agreements totaled approximately $86,403, $77,827, and $52,635 for theyears ended December 31, 2018, 2017, and 2016, respectively. The Company, through its whollyowned subsidiary, PrimEra Technologies, Inc. provides outsourced IT, coding, and other revenuecycle functions to PHF. Fees relating to these agreements totaled $4,248 for the year endedDecember 31, 2018. Prior to 2018, such services were provided at no charge to PHF. These feesare included in other operating revenues in the consolidated statements of operations andcomprehensive income.

Effective January 1, 2017, PHSI insures PHF’s employee medical claims. Claims are adjudicatedby an independent third-party administrator. Losses in excess of $350 are covered by reinsuranceagreement with DVIL at 90% of the covered costs up to a maximum of $3,000 per covered memberper incident. The Company recorded billings to PHF of $68,200 and $62,700 for years endedDecember 31, 2018 and 2017, respectively, which amounts are included in other operatingrevenue. Related claim payments to PHF approximated $57,900 and $46,400 for the years endedDecember 31, 2018 and 2017, respectively, and are recorded as medical claims expense in theconsolidated statements of operations.



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9. Related-Party Transactions (continued)

The Company has entered into agreements with DVIL to provide workers’ compensation,earthquake insurance coverage, commercial malpractice liability insurance, and healthcareinsurance for employees (see Note 8). Premiums paid to DVIL for workers’ compensation,professional and general liability, earthquake and flood, and medical stop loss insurances totaledapproximately $67,533 and $71,978 for the years ended December 31, 2018 and 2017,respectively. Prior to 2017, in addition to workers’ compensation, professional and generalliability, earthquake and flood, the Company also had a medical insurance program with DVIL forhealthcare coverage for employees. Premiums paid to DVIL totaled approximately $223,933 forthe year ended December 31, 2016.

The Company leases certain medical office buildings, and parking facilities under master leaseagreements with subsidiaries of Prime A. The leases are for five-year terms. Rent expense incurredunder these leases was approximately $18,633, $21,408, and $23,579 for the years endedDecember 31, 2018, 2017, and 2016, respectively. The Company subleases some of the officespace under the master lease agreements to third party-tenants.

On December 29, 2017, Prime A donated two medical office buildings, the Centinela MOBs, toPHF. Rent expense for the Centinela MOBs was $3,307 for the year ended December 31, 2018,paid to PHF. Rent expense for these MOBs was $3,133 for the year ended December 31, 2017, paidto Prime A.

The Company leases a medical office building under a master lease agreement with a subsidiaryof PHF. The lease provides an option to extend three additional periods of five years each. Rentexpense incurred under this master lease was approximately $1,095 and $1,034 for the years endedDecember 31, 2018 and 2017, respectively.

10. Retirement Savings Plan

The Company has a defined contribution retirement plan covering substantially all of itsemployees. The Company’s contribution to the plan is at the Company’s discretion but limited tothe maximum amount deductible for federal income tax purposes under the applicable InternalRevenue Code. During the years ended December 31, 2018, 2017, and 2016, the Companyincurred contribution costs of approximately $16,527, $16,073, and $15,275, respectively, to theplan.



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11. Defined Benefit Pension Plan

The Company sponsors the Garden City Hospital Osteopathic Employee Pension Plan (the“Plan”). The Plan covers substantially all eligible employees of Garden City Hospital hired priorto 2003, as defined by the Employee Retirement Income Security Act of 1974 (“ERISA”), with atleast 1,000 hours worked in each Anniversary Year (as defined). Entry into the Plan was frozeneffective May 15, 2003, and benefit accruals were frozen effective May 15, 2004.

The Company recognizes the funded status (i.e., the difference between the fair value of plan assetsand the projected benefit obligations) of this pension plan in the consolidated balance sheets. Forthe years ended December 31, 2018, 2017, and 2016, the unrealized losses related to this pensionplan were approximately $1,319, $716, and $918 respectively.

Benefit Obligations, Fair Value of Plan Assets, and Funded Status

The following table provides a reconciliation of the changes in the benefit obligation and fair valueof plan assets, and a statement of funded status:


2018 2017Change in projected benefit obligation:

Benefit obligation at beginning of year $ 79,340 $ 76,107Interest cost 2,697 2,929Actuarial (gain) loss (4,280) 4,042Benefits paid (3,901) (3,738)

Projected benefit obligation at end of year 73,856 79,340Change in plan assets:

Fair value of plan assets at beginning of year 53,508 50,601Actual (loss) return on plan assets (3,106) 5,589Employer contributions 1,633 1,056Benefits paid (3,901) (3,738)

Fair value of plan assets at end of year 48,134 53,508Underfunded status at end of year $ (25,722) $ (25,832)



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11. Defined Benefit Pension Plan (continued)

The change in the actuarial loss for the years ended December 31, 2018 and 2017, is attributableto the change in the discount rate utilized to determine the benefit obligation amount. During theyear ended December 31, 2018, net actuarial gains decreased the benefit obligation byapproximately $4,280. During the year ended December 31, 2017, net actuarial losses increasedthe benefit obligation by approximately $4,042. These losses/gains are recorded in accumulatedother comprehensive income.

The Company has a total accumulated other comprehensive loss related to the pension plan of$9,147 and $7,828 as of December 31, 2018 and 2017, respectively.

The Company will make a contribution to the Plan of $2,378 in 2019.

Information for the pension plan, which has a projected and accumulated benefit obligation inexcess of plan assets, is as follows:


2018 2017

Projected benefit obligation $ 73,856 $ 79,340Accumulated benefit obligation $ 73,856 $ 79,340Fair value of plan assets at measurement date $ 48,134 $ 53,508

Net Periodic Costs

A summary of the components of net pension expense is as follows:


2018 2017

Interest cost $ 2,697 $ 2,929Expected return on plan assets (2,489) (2,304)Net pension expense $ 208 $ 625



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Assumptions

The assumptions used to determine the benefit obligations are as follows:


2018 2017

Weighted average discount rate 4.05% 3.49%Rate of compensation increase N/A N/A

The assumptions used to determine the net pension expense, are as follows:


2018 2017

Weighted average discount rate 3.49% 3.95%Weighted average expected long-term rate of return on

plan assets 6.25% 6.25%

Basis Used to Determine Expected Long-Term Return on Plan Assets

The expected long-term return on plan assets assumption was developed as a weighted averagerate based on the target asset allocation of the plan and the Long-Term Capital MarketAssumptions (“CMA”) 2014. The capital market assumptions were developed with a primaryfocus on forward-looking valuation models and market indicators. The key fundamental economicinputs for these models are future inflation, economic growth, and interest rate environment. Dueto the long-term nature of the pension obligations, the investment horizon for the CMA 2014 is 20to 30 years. In addition to forward-looking models, historical analysis of market data and trendswas reflected, as well as the outlook of recognized economists, organizations, and consensus CMAfrom other credible studies.

Benefit Payments

Benefit payments in the table below are based on the same assumptions used to measure the relatedbenefit obligations and are paid from both funded benefit plan trusts and current assets. Actualbenefit payments may vary significantly from these estimates.



1808-2856776 45


The following table summarizes the expected benefit payments to be paid over the next ten years:

Years ending December 31:2019 $ 4,3102020 4,5102021 4,6402022 4,7302023 4,840Years 2024–2028 24,270

$ 47,300

Benefit Plan Assets Measured at Fair Value on a Recurring Basis

The fair values of the pension plan assets, by asset class, are as follows:

Fair Value Measurements Using

Level 1 Level 2 Level 3Total Fair

ValueDecember 31, 2018Guaranteed investment contract $ – $ – $ 662 $ 662Total assets in the fair value hierarchy $ – $ – $ 662 662Investments measured at net asset value 47,472Investments at fair value $ 48,134

Fair Value Measurements Using

Level 1 Level 2 Level 3Total Fair

ValueDecember 31, 2017Guaranteed investment contract $ – $ – $ 742 $ 742Total assets in the fair value hierarchy $ – $ – $ 742 742Investments measured at net asset value 52,766Investments at fair value $ 53,508



1808-2856776 46


Guaranteed Investment Contract. The Plan is party to a contract with the John Hancock LifeInsurance Company (“John Hancock”), under which the Plan previously contributed a specifiedamount, and John Hancock maintains the contributions in an unallocated annuity fund to whichthe contributions earn interest at market rate. The balance in the fund is guaranteed never to be lessthan the aggregate contributions made to the accumulation fund, less all expenses, taxes, andamounts withdrawn to pay benefits. There are no guarantees as to the amount of interest.

Investments measured at net asset value. Net asset value per share is based on the fair value of theunderlying investments within these pooled separate accounts, consisting of common stock valuedat the closing price reported on the active market on which the individual securities are traded, andcorporate bonds, government bonds, collateralized mortgage obligations, and other asset-backedsecurities valued at the bid price or the average of the bid and ask price using pricing models,quoted prices of securities with similar characteristics, or broker quotes. Certain of theseinvestments have redemption restrictions for 30 days, and the remainder of the investments do nothave any redemption restrictions.

Plan Assets

The Company has adopted and implemented investment policies for the Plan that incorporatestrategic asset allocation mixes intended to best meet the Plan’s long-term obligations, whilemaintaining an appropriate level of risk and liquidity. The asset portfolio employs a diversifiedmix of investments, which are reviewed periodically. Active management strategies are utilizedwhere feasible in an effort to realize investment returns in excess of market indices. The Plan’sinvestment policies allow for investments in stable portfolios (consisting of short-term, high-quality debt securities), fixed-income portfolios (primarily consisting of debt securities issued bythe U.S. government, foreign governments, and U.S. and foreign corporations), real assets(consisting largely of owned real estate and real estate investment trusts), U.S. stocks, and non-U.S. stocks. The investment strategy currently targets a mix of 42% fixed-income assets, 48% U.S.equities, and 10% foreign equities.



1808-2856776 47

12. Contingencies and Commitments

Litigation

The Company is subject to a variety of claims and suits that arise from time to time in the ordinarycourse of its business, acquisitions, or other transactions. While the Company’s managementcurrently believes that resolving all of these matters, individually or in the aggregate, will not havea material adverse impact on the Company’s consolidated financial position or results ofoperations, the litigation and other claims that the Company faces are subject to inherentuncertainties, and management’s view of these matters may change in the future. Should anunfavorable final outcome occur, there exists the possibility of a material adverse impact on theCompany’s consolidated financial position, results of operations, and cash flows for the period inwhich the effect becomes probable and reasonably estimable.

On May 23, 2016, the United States Department of Justice (“USDOJ”) filed a motion and noticeof its intent to partially intervene in the False Claims Act (“FCA”) action filed by a formeremployee of Alvarado Hospital. Pursuant to its notice, USDOJ only intervened on the relator’sFCA claim that California PHSI hospitals submitted claims for unnecessary inpatient admissionsof patients who allegedly could have been treated on an outpatient basis, including throughobservation care. The USDOJ did not intervene on the relator’s other FCA claims, including theallegation that PHSI hospitals submitted claims with false diagnoses of medical complications andcomorbidities but were ultimately settled with case as mentioned below. In 2016, the Companyestablished an accrual of approximately $27,000 with regard to the potential settlement of this caseand a payable to PHF for approximately $4,300 in accordance with the indemnification provisionsof the hospital transfer agreements. On March 28, 2018, the Company reached an agreement inprinciple to resolve all claims raised in this case, which resulted in an increase of the accrualestablished in 2016 to $65,300 as of December 31, 2017, and an increase of the payable establishedin 2016 to PHF to approximately $11,700 as of December 31, 2017. On August 3, 2018, the partiesfinalized the settlement agreement, and the accrual for the Company was reduced byapproximately $3,500 based on this final settlement. Pursuant to that agreement, the Companyissued a payment of $61,800 on August 31, 2018, settling the case and the payable to PHF.

In 2008, the Company sued a major health plan, seeking payment of underpaid or unpaid claimsfor healthcare services provided to members of the health plan. In March 2014, the Company filedan amended complaint, narrowing the scope of the lawsuit. The health plan responded by filingcross-complaints asserting claims against the Company. The health plan asserted that theCompany, among other things, improperly determined that patients were unstable for transfer,



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12. Contingencies and Commitments (continued)

improperly coded the claims on the bills, and charged unreasonable amounts. The health plan alsoalleged entitlement to reimbursement on some amounts it alleged were overpaid but limited itsclaims to those in which the Company had claimed it was underpaid. On February 9, 2015, theCompany and the health plan agreed to dismiss their respective lawsuits against each other andinstead to resolve their disputes through confidential and binding arbitration. On March 19, 2018,the arbitration panel issued a final award (“Award”) of approximately $42,000 against theCompany, for which the Company established an accrual as of December 31, 2017. Following thisruling, the Company increased the accrual as of December 31, 2018, by approximately $2,000 forinterest incurred. As of December 31, 2018, the total accrual was approximately $44,000(including a payable to PHF, which was increased by approximately $200 during 2018 to $3,500,related to this case in accordance with the indemnification provisions of the hospital transferagreements). On February 26, 2019, the Los Angeles County Superior Court confirmed the Awardagainst the Company and entered a judgment in the approximate amount of $44,000.

The Company vigorously disputes the basis for the Award and has filed an appeal of the Awardand judgment. Execution of the judgment is stayed during the appeal because the Company hasobtained a surety bond as assurance of payment of the judgment depending on the outcome of theappeal. Interest in the amount of $6 per day continues to accrue on the judgment until it is eithervacated or paid.

The Company was a plaintiff and cross-defendant in a civil action initiated by the Company inOctober 2015 related to the Company’s termination of its agreement to purchase the Daughters ofCharity Health System (“DCHS”) (now known as Verity). Under its agreement, the Company wasentitled to terminate, but under certain circumstances was required to pay a termination fee toDCHS of either $5,000 or $40,000, depending on the basis for its decision to terminate.

Following termination, a dispute arose as to the actual basis for the Company’s termination and,thus, which, if any, termination fee was owed. In 2016, the Company established a reserve of$17,000 related to this case. In August 2017, both sides entered into a Settlement Agreement andMutual General Release. Under the terms of this settlement, both parties agreed to dismiss theirrespective claims against each other, and, in 2017, the Company paid DCHS/Verity $5,000 andmade an unrestricted donation of $12,000 to the St. Vincent Foundation in 2017, satisfying thesettlement agreement.



1808-2856776 49


Legislation and HIPAA

The health care industry is subject to numerous laws and regulations of federal, state, and localgovernments. Compliance with such laws and regulations can be subject to future governmentreview and interpretation, as well as regulatory actions unknown or unasserted at this time. Theselaws and regulations include, but are not limited to, accreditation, licensure, government healthcare program participation requirements, reimbursement for patient services, and Medicare andMedicaid fraud and abuse. Government activity has increased with respect to investigations andallegations concerning possible violations of fraud and abuse statutes and regulations by healthcare providers. Violations of these laws and regulations could result in exclusion from governmenthealth care program participation, together with the imposition of significant fines and penalties,as well as significant repayment of past reimbursement received for patient services. While theCompany is subject to similar regulatory review, management believes that the outcome of anypotential regulatory review will not have a material adverse effect on the Company’s consolidatedfinancial position.

Management believes that the Company is in compliance with government laws and regulationsrelated to fraud and abuse and other applicable areas. Compliance with such laws and regulationscan be subject to future governmental review and interpretation, as well as regulatory actionsunknown or unasserted at this time.

The Health Insurance Portability and Accountability Act (“HIPAA”) assures health insuranceportability, reduces healthcare fraud and abuse, guarantees security and privacy of healthinformation, and enforces standards for health information. The Health Information Technologyfor Economic and Clinical Health Act expanded upon HIPAA in a number of ways, includingestablishing notification requirements for certain breaches of protected health information. Inaddition to these federal rules, California has also developed strict standards for the privacy andsecurity of health information as well as for reporting certain violations and breaches. TheCompany may be subject to significant fines and penalties if found not to be compliant with thesestate or federal provisions.



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Labor Relations

As of December 31, 2018, the Company had approximately 25,000 employees, of whomapproximately 22% are represented by various labor organizations.

The table below shows the Company’s employees who are represented by unions as ofDecember 31, 2018:

Facility Employee Group Union

Date onWhich CollectiveBargaining AgreementExpires

Alvarado Hospital MedicalCenter

Registered Nurses California NursesAssociation

In negotiations

Centinela Hospital MedicalCenter


In negotiations

Centinela Hospital MedicalCenter

Service, Maintenance, Technical,Skilled Maintenance andBusiness Office ClericalEmployees

SEIU United HealthcareWorkers

April 18, 2020

Chino Valley Medical Center Registered Nurses United NursesAssociations ofCalifornia

In negotiations

Garden Grove HospitalMedical Center

Registered Nurses United NursesAssociations ofCalifornia

September 30, 2019

Garden Grove HospitalMedical Center

Professional, Service,Maintenance, Technical, SkilledMaintenance and BusinessOffice Clerical Employees

SEIU United HealthcareWorkers

April 18, 2020

Lower Bucks Hospital Engineers and Maintenance International Union ofEngineers Local 835

October 15, 2021

Lower Bucks Hospital Registered Nurses PennsylvaniaAssociation of StaffNurses and AlliedProfessionals

November 1, 2019

Saint Mary’s RegionalMedical Center – Reno

Registered Nurses California NursesAssociation/ NationalNurses United

March 31, 2019

Saint Mary’s RegionalMedical Center – Reno

Service and Technical Employees CommunicationWorkers of America

March 9, 2020



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Facility Employee Group Union

Date onWhich CollectiveBargaining AgreementExpires

Saint Michael’s MedicalCenter

Professional Employees 1199J (Guild) In negotiations


Service Employees 1199J (Service) In negotiations


Residents Committee of Internsand Residents

August 29, 2019


Boiler Room and MaintenanceDept. Employees

International Union ofEngineers Local 68

In negotiations


All Registered Nurses and NurseAnesthetists. TechnicalEmployees in certaindepartments only.

JNESO In negotiations

St. Joseph Medical Center Engineers and MaintenanceEmployees

International Union ofEngineers Local 101S

March 31, 2021

St. Mary’s Hospital – Passaic Skilled Maintenance Employees International Union ofEngineers Local68-68A-68B

August 14, 2020

St. Mary’s Hospital – Passaic Registered Nurses JNESO August 14, 2020St. Mary’s Hospital – Passaic Technical Employees JNESO August 14, 2020West Anaheim Medical

CenterTechnical Employees The National Union of

Healthcare WorkersOctober 10, 2021

West Anaheim MedicalCenter


June 30, 2021

Shasta Regional MedicalCenter


June 30, 2021

Shasta Regional MedicalCenter

Technical Employees Caregiver andHealthcare EmployeesUnion

In negotiations

The following summarizes the status of the other collective bargaining agreements:

As of December 31, 2018, the Chino Valley Medical Center collective bargaining agreements withUNAC, as well as the Shasta Regional Medical Center collective bargaining agreement withCHEU, were under negotiation. During negotiation, the Company is following the previouslyexisting contracts until a new contract is finalized.



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Provider Contracts

Many of the Company’s payor and provider contracts are complex in nature and may be subjectto differing interpretations regarding amounts due for the provision of medical services. Suchdiffering interpretations may not come to light until a substantial period of time has passedfollowing contract implementation. Liabilities for claims disputes are recorded when the loss isprobable and can be estimated. Any adjustments to reserves are reflected in current operations.

Capital Commitments

In connection with the acquisitions of various hospitals, such acquisition agreements require theCompany to make certain capital expenditures before a specified date, such as facility renovations,medical equipment, and information systems. As of December 31, 2018, remaining capitalcommitments of $3,500 and $8,731 are required by December 31, 2019, and December 31, 2021,respectively.

13. Subsequent Events

Subsequent events are events or transactions that occur after the consolidated balance sheet datebut before consolidated financial statements are available to be issued. The Company recognizesin the consolidated financial statements the effects of all subsequent events that provide additionalevidence about conditions that existed at the date of the consolidated balance sheet, including theestimates inherent in the process of preparing the consolidated financial statements. TheCompany’s consolidated financial statements do not recognize subsequent events that provideevidence about conditions that did not exist at the date of the consolidated balance sheet but aroseafter the consolidated balance sheet date and before consolidated financial statements are availableto be issued. The Company has evaluated subsequent events through April 30, 2019, which is thedate the consolidated financial statements were available to be issued.

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